chap11 - Chapter 11 THE BASICS OF CAPITAL BUDGETING Should we build this plant 1 Topic Overview Project Types Capital Budgeting Decision Criteria Net

# chap11 - Chapter 11 THE BASICS OF CAPITAL BUDGETING Should...

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Chapter 11: THE BASICS OF CAPITAL BUDGETING Should we build this plant? 1
Topic Overview Project Types Capital Budgeting Decision Criteria Net Present Value (NPV) Internal Rate of Return (IRR) Modified Internal Rate of Return (MIRR) Payback Period Discounted Payback Period 2
Learning Objectives Understand how to calculate and use the 5 capital budgeting decision techniques:, NPV, IRR, MIRR, Payback, & Discounted Payback. Understand the advantages and disadvantages of each technique. Understand which project to select when there is a ranking conflict between NPV and IRR. 3
Think about this as we cover Chapter 11 Capital Budgeting Decision Methods. Which of the following investment opportunities would you prefer? #1) Give me \$1 now and I’ll give you \$2 at the end of class. #2) Give me \$100 now and I’ll give you \$150 at the end of class. 4
WHAT IS CAPITAL BUDGETING? Analysis of potential additions to fixed assets. Long-term decisions; involve large expenditures. Very important to firm’s future. 5
Capital Budgeting Steps: 1. Estimate CFs (inflows & outflows). 2. Assess riskiness of CFs. 3. Determine k = WACC (adj.). 4. Find NPV and/or IRR. 5. Accept if NPV > 0 and/or IRR > WACC. 6
Types of Projects Brand new line of business Expansion of existing line of business Replacement of existing asset Independent vs. Mutually Exclusive Normal vs. Non-normal 7
An Example of Mutually Exclusive Projects: BRIDGE VS. BOAT TO GET PRODUCTS ACROSS A RIVER. 8
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Our Case StudyWe want to help Marge Simpson analyze the following business opportunities by using the following cash flow information. Assume Marge's cost of capital (WACC) is 12%.TimeFalafel-FullHow 'Bout A Pretzel?0(20,000)(20,000)115,0002,000215,0002,500313,0003,00043,00050,000 10
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Marge’s NPVs: k = 12% Time Falafel-Full PV(CF) How 'Bout A Pretzel? PV(CF) 0 (20,000) (20,000) (20,000) (20,000) 1 15,000 13,393 2,000 1,786 2 15,000 11,958 2,500 1,993 3 13,000 9,253 3,000 2,135 4 3,000 1,907 50,000 31,776 NPV 16,510 17,690 13
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